Attachment_J.6__PDPS.pdf

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Contents

Acronyms ....................................................................................................................................... iii

Executive Summary

Introduction

1. Key Development Challenges facing Liberia

A. Macroeconomic stability and management

B. Trade policy and trade facilitation

C. Financial inclusion and digital finance

D. Transactions costs

E. Sector-specific development

2. Policy and Non-Policy-Related Actions Needed to Address the Development Challenges . 46

A. Macroeconomic stability and management

B. Trade policy and trade facilitation

C. Financial inclusion and digital finance

D. Transactions costs

E. Sector-specific development

3. Implementation Plan

A. Macroeconomic stability and management

B. Trade policy and trade facilitation

C. Financial inclusion and digital finance

D. Transactions costs

E. Sector-specific development

4. Conclusion

5. ANNEX 1: Reform Prioritization Table

6. ANNEX 2: List of Interviewees

7. ANNEX 3: Bios of the Research Team Members

8. ANNEX 4: Cost Breakdown iii

Acronyms

AFT 2013-17 Agenda for Transformation

AGOA Africa Growth and Opportunity Act

ASYCUDA Automated System for Customs Data

ATM Automatic Teller Machine

AU African Union

BOT Build Operate Transfer

BTO Build Transfer Operate

CARI Central Agricultural Research Institute

CBL Central Bank of Liberia

CDC Coalition for Democratic Change

CDCS Country Development Cooperation Strategy

CNDRA Center for National Documents and Records Agency

CSO Civil Society Organization

CSR Corporate Social Responsibility

ECOWAS Economic Community of West African States

EPZ Export Processing Zone

ESID Effective States and Inclusive Development

EU European Union

FDI Foreign Direct Investment

FIA Financial Institutions Act

GDP Gross Domestic Product

GEMs Liberia Governance and Economic Management

GNI Gross National Income

GOL Government of Liberia

GST Goods and Services Tax

HIPC Highly-Indebted Poor Country Initiative

IMCC Inter-Ministerial Concession Commission

IMF International Monetary Fund

IPD Import Permit Declaration

LADA Liberia Agribusiness Development Activity

LATA Liberia Agricultural Transformation Agenda

LDRM Liberia Domestic Resource Mobilization

LEC Liberia Electricity Corporation

LGSA Liberia Governance Support Activity

LISGIS Liberia Institute of Statistics and Geo-Information Services

LLA Liberia Land Authority iv

LPDP Liberian People Democratic Party

LRA Liberia Revenue Authority

LRMC Long Run Marginal Cost

MCC Millennium Challenge Corporation

MFDP Ministry of Finance and Development Planning

MFI Microfinance Institution

MNO Mobile Network Operator

MOJ Ministry of Justice

MOU Memorandum of Understanding

MSME Micro Small and Medium Enterprises mSTAR Mobile Solutions Technical Assistance and Research

MSTAS Management Support and Technical Analysis Services

MTEF Medium-Term Expenditure Framework

NBC National Bureau for Concessions

NGO Non-governmental Organization

NIC National Investment Council

NPL Nonperforming Loan

NPP National Patriotic Party

O&G Oil and Gas

ODI Overseas Development Institute

OECD Organization for Economic Cooperation and Development

PDAPS Policy Dialogue Activity Preparatory Study

PEA Political Economic Analysis

PPCA Public Procurement and Concessions Act

PPCC Public Procurement and Concessions Commission

PPP Public-Private Partnership

PRG Policy Regulatory and Governance

RCFI Rural Community Finance Institution

RG3 Revenue Generation for Governance and Growth

RSS Ribbed Smoked Sheets

SEZ Special Economic Zone

SME Small and Medium Enterprises

TA Technical Assistance

TSA Treasury Single Account

UNDP United Nations Development Programme

USAID United States Agency for International Development

VAT Value-added Tax

VFM Value for Money

WTO World Trade Organization

Foreword

This report was motivated by concerns at USAID about how to promote economic growth in the context of a poor business climate and significant economic governance and macroeconomic management challenges in Liberia. As recent reports from the World Bank and other multilateral development institutions indicate, Liberia’s business climate remains among the least conducive in the world for private investors and its economic governance and macroeconomic policy management capacity ranks low by regional standards. As an agency committed to sustained private sector-led economic growth as a basis for poverty reduction and sustainable development, USAID found it necessary to examine the nature of the poor business climate, its underlying drivers and how reforms could be prioritized and implemented to support broad-based, sustainable economic development in Liberia. This report presents the findings of that effort. The report discusses a select set of key areas that hamper private sector development, the reforms that are needed to address them and the factors necessary to ensure successful implementation of those reforms.

The research results reported here are based on a desk study carried over a period of several months and field consultations in Liberia during the period January – February 2018. The findings reflect analysis of key texts on the Liberia economy and economic history and consultations with officials of the Liberian Government, development partners, private sector, civil society and international and local experts.

Produced by a team of economists from the PRAGMA consulting firm with significant participation by USAID, the report reflects an analytically rigorous study grounded in a well thought through conceptual framework and guided by on the ground data gathering, consultations and reflections. In many ways, the findings and recommendations for policy reforms contained herein are broadly aligned with the established understanding of major stakeholder development institutions about how to spur transformative economic change in

Liberia based on broad-based private sector led growth.

USAID would like to thank the PRAGMA Corporation for leading this effort and the many participants in the consultations who provided valuable information and insights. In particular, thanks go to our development partners and counterparts in the Government of Liberia whose significant commitment of time and attention to this effort demonstrates the importance we all attach to creating an enabling environment for private sector development and expansion as the avenue for ensuring broad-based and sustained economic growth and development in Liberia.

Anthony Chan, PhD

Mission Director, USAID/Liberia

August 17, 2018

Executive Summary

The Liberian economy is at a crossroads. On the one hand, a violent coup d’état almost forty years ago, followed by two civil wars, economic mismanagement, and the Ebola epidemic, took a severe toll on the economy. Current low commodity prices aggravate this situation. In 2016, more than one-half the population lived in poverty and, despite some recent economic growth, Gross National Income per capita had still not reached 75% of its 1979 peak.

However, on the other hand, there is reason for optimism. The Ellen Johnson Sirleaf

Government (2006-2018) implemented several reforms and witnessed a partial recovery. A new government, headed by President George Weah took possession in January 2018, and marked the first transition from one democratically elected government to another since 1944.

President Weah promised policies aimed at bolstering investment, employment and incomes.

He committed to pro-poor governance and the elimination of unnecessary regulatory constraints. Achieving this will depend on the policies adopted by the new government, how effectively they are communicated and implemented, the degree of support the government garners for policy and regulatory improvements, and the tenacity of the government's political will to see them through.

Nevertheless, efforts to set the bases for high, inclusive and sustainable economic growth face important obstacles. Liberia's foreign exchange inflows depend heavily on natural resource exports, coupled with remittances and donations. The latter are expected to decline sharply in coming years. Non-traditional exports are low, and potential exporters face what several consider insurmountable barriers. Concessions, awarded via processes which lack transparency, govern the exploitation of natural resources. Rent-seeking is pervasive and deeply entrenched throughout the country. Although electricity generating capacity recently demonstrated a dramatic increase, transmission and distribution lines are inadequate and the price of electricity is among Africa's highest. Likewise transport infrastructure is inadequate. Excessive paperwork and rent-seeking in the ports discourage exports, especially non-traditional exports.

Plagued by excessive non-performing loans, an inadequate credit registry, and insufficient credit availability, especially in rural areas, the financial system is weak. Recent advances in mobile finance are important, but lag those of neighboring countries. In addition, despite recent improvements, public finances need continued reforms, both on the revenue and expenditure sides. The court system is slow and generally inefficient. A lack of secure property rights discourages investments in agriculture. The above factors contribute to Liberia's low ranking --in the bottom ten percent-- of countries included in the World Bank's Doing Business 2018 indicators.

Notwithstanding these formidable challenges, key policy, regulatory and governance (PRGs) reforms could put Liberia on a path toward export-led and competitive import-substituting growth that benefits small producers and generates incomes and employment. Products with promising potential include value-additions to natural resources, such as rubber products (in particular ribbed smoked sheets, RSS), palm oils and refined palm oil, cocoa, soaps, cosmetics, and in general light manufacturing that moves up and down value chains serving the mining sector. Fisheries and aquaculture, as well as niche products such as red rice, also hold considerable growth potential.

This report classifies crucial impediments to broad-based, inclusive economic growth and PRG reforms to overcome them in five general areas: macroeconomic stability and management, trade policies and facilitation, financial inclusion and digital finance, transactions costs, and sector-specific development. The latter is subdivided into agriculture and manufacturing.

As part of a political economy analysis to classify the Liberian economy's firms and their likely acceptance or resistance to PRGs, these firms are classified into four broad groups: (i) rentiers or rent-intensive firms, mostly foreign mining and plantation concessionaires; (ii) powerbrokers, principally politically-savvy domestic firms, that manage to obtain rents through exclusivity; (iii) workhorses, the majority of which are small and operate in competitive and often informal markets; and (iv) magicians, who are exporters operating in international competitive markets.

Rentiers and powerbrokers wield important influence in the Liberia economy and generally manage to effectively articulate their interests to decision-makers. The more numerous workhorses are generally unorganized and encounter difficulties in defending their interests.

Although fundamental for forging inclusive economic growth, magicians barely exist. More are needed.

Turning to the aforementioned five general areas, the macroeconomic stability and management area is divided into two principal parts. The first points to fiscal policies, namely a need for rationalized expenditure policies and strengthened domestic resource mobilization. Tightening budgetary procedures and controls, evaluating and prioritizing of investments, and introducing improved taxes -- especially a value-added tax (VAT) and a property tax -- head a series of important reforms. Improved fiscal policies will enable the government to finance urgent social and economic needs even as projected donations from abroad decrease. The second -macroeconomic stability and management – relates to concessions.

Although these represent a major source of revenue for the government, the process of awarding them is lengthy, unwieldy and lacks transparency. As a consequence, the government may be shortchanging the amount of revenues it receives from this source. A modern PPP law taking the place of concessions for all but mining, oil and gas investments -- based on a competitive transparent bidding process -- offers potential to greatly enhance transparency and the benefits to Liberia of foreign investments.

Improvements in the second strategic area identified, trade policies and facilitation, focus on the ports. An expansion of non-traditional exports by entrepreneurial firms "magicians", requires streamlining and improved port procedures. Concerted efforts to simplify complicated procedures, drastically reduce rent-seeking behavior, and implement modern risk-management techniques head urgently needed improvements at the ports. Moving in the direction of a single window and adopting a WTO Post-Accession plan are important. Training small producers and potential exporters in port procedures, and possibly accompanying some small exporters through the ports, would help overcome resistance to what are reputed to be difficult and time-consuming procedures, exacerbated by rent-seekers. It is also important to replace trade taxes with better forms of taxation (for example, the previously mentioned VAT) that weigh less heavily on international trade.

Addressing the third broad area, financial inclusion and digital finance, is fundamentally important for purposes of overcoming the dearth of investment and working capital affecting all producers, especially small enterprises outside the capital area. Key PRGs include the strengthening the Central Bank of Liberia, especially its regulatory and supervision responsibilities, instituting a comprehensive credit registry, and promoting the use of mobile money to increase liquidity, especially in rural areas.

The fourth area, transactions costs, encompasses a powerful drag on economic growth.

Pervasive rent-seeking is a deeply entrenched obstacle to inclusive, sustainable economic growth. Recognized by President Weah on several occasions, he committed to combat corruption. This report supports President Weah's commitment by seeking important transparency measures in the ports, in paying taxes, and in general in interactions between private individuals and public employees. Likewise, business and licensing procedures need to be reviewed to promote competition throughout the economy, but especially in the transport sector. Rents for key domestic oligopolies ("powerbrokers"), benefiting (for example) rice, cement and vehicle importers need to be addressed by better and more transparent, published procedures that encourage competition. Licensing procedures need to be reviewed. In addition, the courts weigh heavily on transactions costs.

Commercial courts need strengthening to provide quicker judgements. More courts, judges and courtrooms could make a big difference in a relatively short time period. Expeditious and cost-effective arbitration procedures would also help reduce backlogs. An automated case management and filing system would further contribute to efficiency. Better secondary legislation for insolvency and manuals, and related training for judges and practitioners, are also important. As an additional measure to reduce transactions costs, Liberia would benefit from systemic application of cost-benefit analysis to prioritize investments in transportation, in a manner that overcomes as rapidly as possible constraints to the rapid movement of goods.

The fifth area, sector-specific development, also requires important PRGs. A fundamental conclusion of the research team is that investment in agriculture is severely restricted by the lack of secure property rights. Without secure land tenancy, the research team would expect little non-concessional private investment to follow major PRG improvements and public investments in roads, rural electrification, and public services. This helps explain why recent investments in these areas have been accompanied by little additional non-concessional investment and production. The Land Commission recommended a sound Land Rights Act in

2013, but it is still unclear what legislation may eventually emerge from this process as special interests seek to influence its outcome. Once a good Land Rights Act is approved, a deeds/mortgage registry will be needed to help stimulate investment in agriculture as well as in manufacturing. This will also constitute an important step in the direction of a cadastre needed to support a property tax. In addition, agricultural working groups, as specified in the Liberia

Agricultural Transformation Agenda (LATA) could provide important inputs to help develop measures conducive to sectoral growth.

Also associated with the fifth area, Liberia recently passed SEZ legislation, which holds potential for promoting non-traditional exports. However, the zone authority must still be established and trained, and it must develop regulations and coordinate effectively with diverse ministries and agencies. If the specific policy initiatives recommended in this report are implemented, they will facilitate major progress towards addressing the key policy and institutional distortions that are inhibiting inclusive growth and poverty reduction, and help put the Liberia economy on a robust sustainable growth trajectory.

Introduction

Battered by two civil wars (1989-1996 and 1999-2003), economic mismanagement before and during the wars, the Ebola crisis (2014-2016) and several years of low commodity prices, Liberia’s Gross National Income (GNI) per capita plummeted between 1989 and 2003, then began to recover. However, it has still has not reached 75% of its peak in 1979.1 About 50.9% of the population lived in poverty in 2016.2

As 2018 begins, Liberia is at a crossroads. A new government took office on January 22, 2018, marking the country’s first transition from one democratically elected government to another since 1944.3 The transition offers an opportunity to progress toward inclusive economic growth based on a diversified competitive economy. Barring unforeseen shocks, projections show GDP rising from approximately 2.5% in 2017 to 5-6% per year or more in the next 3-4 years.4 In large part, economic growth and, in particular, inclusive economic growth will depend on the policy mix implemented by the new government. Major issues remain to be resolved, and progress toward their resolution will greatly influence the course of economic development during the new administration. Several key issues are summarized below.

A heavy dependence on natural resources and the concessions that enable their exploitation are high on the list of challenges facing the new government. Iron ore, diamonds and gold are projected to account for more than 73% of the country’s goods exports in 2017.5 Patronage by powerful vested interests, local and national, mean that concessions result in far fewer benefits to the country than might otherwise be expected. One source cites widespread skepticism among Liberians about the system of concessions and their contribution to the country’s growth and development.6

Although the outgoing government made transparency improvements in granting concessions, the entire process governing their award, content and structure should be overhauled.

Concession agreements are available if requested, but details regarding the process and

1 World Bank database, https://data.worldbank.org/country/liberia .

2 Liberian Institute of Statistics and Geo-Information Services (LISGIS), Household Income and Expenditure Survey

2016. August 2017. Poverty is defined as the income below which individuals cannot meet their food and non-food minimum needs.

3 The first round of Liberia’s presidential elections took place in October 2017 and the second-round runoff between the two leading candidates on December 26, 2017. President George Weah assumed his office on January

22, 2018. The outgoing administration, headed by Ellen Johnson Sirleaf, had been in office for twelve years.

4 IMF, Seventh and Eighth Reviews under the Extended Credit Facility Arrangement, and Request for Waiver of

Nonobservance of Performance Criteria. IMF Country Report 17/348, November 2017.

5 Central Bank of Liberia, Annual Report 2017, page 30.

6 Jonathan Said, How Liberia Can Diversify its Economy for Inclusive Growth, 2017.

https://data.worldbank.org/country/liberia substance of the negotiations leading to them are not. The current practice of negotiating ad hoc deals that grant concessions and substantial tax and duty exemptions in return for commitments to provide social infrastructure and services should cease. Instead, in line with modern best practice, the process governing the award of concessions should be much more tightly regulated, competitive, and transparent. The structure and content of concession agreements should also be much more tightly regulated; and the compensation required from concessionaires should principally be in the form of taxes, rents, royalties, and/or shared production. Furthermore, the current system for the post-award management of concessions needs to be systematized and made more professional; the use of standard forms, terms and conditions of contract would make concession management easier. However, all these reforms will require significant changes to the legislative/regulatory regime and substantial capacity building. A more effective modern system for awarding and managing concessions would likely yield an important source of additional revenue that could be allocated to the highest priority development projects in or of direct benefit to the affected communities.

Heavy dependence on natural resources is not only a problem when commodity prices are low, as they have been in recent years, but also when they are high. High prices (exacerbated by large donor inflows and remittances) provoke “Dutch Disease,” which creates havoc with nascent competitive export activities that become priced out of international markets as foreign exchange inflows inflate domestic prices. High commodity prices also reduce pressures to reform and diversify the economy.

Liberia also needs to overcome additional important obstacles to move in the direction of a robust, competitive, diversified set of economic activities, propelled by entrepreneurs who export their goods to world markets or compete efficiently and effectively with imports. The country suffers from expensive electrical energy and an incomplete grid. Its system of roads is inadequate. Rights in the real property are uncertain and insecure. The costs of importing and exporting are excessive, and procedures are onerous. Local restraints on competition contribute to higher costs in the purchases of important goods and services. Transaction costs are high, especially outside of Monrovia, and the business environment requires very significant reforms. Liberia ranks 172nd out of 190 countries on the World Bank’s Doing Business 2018 index7 and 177th out of 188 countries on the United Nations Human Development Index in

2016.8 These rankings to a large extent reflect the time-consuming and costly procedures that businesses must comply with. For example, according to the World Bank’s Doing Business

2018 index, to obtain a construction permit an applicant must deal with 25 separate procedures that take an average of 87 days to complete; obtaining a standard electrical connection takes an average of 482 days at a cost that is a staggering 4,175% of the income per capita; and the time

7 World Bank, Doing Business 2018.

8 United Nations, Human Development Report 2016.

required by an exporter to deal with border compliance procedures is 193 hours (the OECD average is 12.7 hours) at a cost of $1,113 (the OECD average is $150).

The financial sector faces daunting issues. Nonperforming loans (NPLs) are high and financial sector supervision is insufficient. A comprehensive credit registry is lacking. Access to credit is almost nonexistent in rural areas9 (where there are few, if any, banks), and loans often carry exorbitant interest rates. Neither is credit generally available to small firms. Financial literacy and the managerial capacity of borrowers and lenders is low. Mobile money is gaining in importance, but liquidity and inadequate interoperability of competing systems remain issues.

A heavy dependence on remittances and donor resources exacerbate the challenges of the obstacles to economic growth noted above. The dollar value of Liberia’s goods imports exceeded exports by more than a multiple of 2.6 in 2017.10 Remittances and donor transfers filled a large portion of this gap.

Domestic resource mobilization needs strengthening, and the government urgently needs to improve its control over recurrent and capital expenditures to ensure adequate financing for high priority investments. Despite recent improvements, a large amount of work remains to further improve programming, budgeting and strategic planning.

Notwithstanding the formidable challenges mentioned above, Liberia has the potential to enjoy export-led and competitive import-substituting growth that can benefit small producers and generate incomes and employment. Value-additions to natural resource value chains are important. These include rubber products,11 palm oils and refined palm oil, tomatoes, cocoa, cocoa products, soaps, cosmetics, and in general, light manufacturing that moves up and down the value chains of Liberia's natural resources. Some SMEs have appeared. Fisheries and aquaculture also hold promise for the future. In addition, Liberian firms have the potential to participate in the value chains serving the mining sector as well as the donor- and government-financed construction sectors. Whether the country takes advantage of these and other potential growth areas will depend largely on policies followed by the new government. Policy, regulatory, and governance reforms, particularly those targeted at growth areas and at eliminating constraints on growth, have the potential to yield large benefits for the country.

The described in this report identifies the highest priority reforms – especially reforms that are realistic, important and feasible -- needed to promote inclusive economic growth. See Annex 1 for a prioritized list of reforms.

9 IMF, op cit.

10 Central Bank of Liberia, Annual Report 2017.

11 This includes rubberwood and products made of rubberwood, principally furniture.

The report can assist the new administration in its efforts to develop an effective economic development strategy geared to ensuring that the fruits of growth are more equitably distributed. At the time this report was prepared, the new Liberian Administration had only begun to be formed, and its economic growth priorities and strategies were still in development. This report may help the new government define with greater precision the specific policy reforms needed to achieve inclusive, sustainable, non-rentier, private sector led growth.

Even though limited information was available about the priorities of the new government, the inaugural address of President Weah provides several important signposts for the coming years:

the rule of law, the end to corruption, a living wage for public employees, the removal of unnecessary regulatory constraints, a business-friendly environment, transparency, an open door to foreign investment (but Liberian businesses will not be marginalized), the removal of unnecessary regulatory constraints, and pro-poor governance. The CDC’s “Manifesto for

Election” contains these same concepts.12

President Weah asked the international community for help with a transformation that will require huge investments in agriculture, infrastructure, human capital and technology.13 He noted a strong relationship with the United States, a partnership with the European Union, and help from the Chinese and the African Union. His speech acknowledged the powerful support that he received from the country’s youth and, although not explicitly a part of his inaugural address, his speeches on the campaign trail suggest a high priority to programs aimed at job creation, especially for youth.

As mentioned above, technical and vocational training (TVET) is likely to receive a high priority in the government's attempts to create jobs. Effectively done, this may be an important instrument for inclusive economic growth. However, TVET programs require major investments and run the risk of being excessively supply-driven and misreading market trends/requirements. Overall this could be an area where other established donors in Liberia, in particular the European Union (EU) and the Germans, may have a comparative advantage.

To be successful, TVET needs flexible, constantly updated training that responds directly to

12 Coalition for Democratic Change, Change for Hope, 2017.

13 In a meeting on February 6, 2018 that included members of the research team, Finance and Development

Planning Minister Samuel Tweah, Jr. emphasized the same priorities. He specifically referred to the importance assigned to roads, education (including TVET) and agriculture. He underscored the government's commitment to combat corruption, and noted that even the suspicion of corruption will provoke a strong response. He further advised that the government will set out its priorities in a document to be completed in two to three months. A summary version will be ready in two to three weeks. Minister Tweah wants to see close coordination among donor agencies and called for accountability. He wants donors to help draft and agree with the government on a set of developmentally related indicators subject to periodic monitoring.

private sector needs. Private sector buy-in, through financing and/or apprenticeships, help achieve this.

Encouraging the creation of public sector training entities is generally not advisable. The research team has observed a number of such entities in various countries, including in the

Middle East, Latin America, and Pakistan, and they only rarely achieved the purpose for which they were formed. They were too often characterized by bureaucratic structures and red tape, onerous labor commitments, and ineffective training. Few of their graduates benefited from successful job placements. In addition, it will be important to ensure that labor market policies are sufficiently flexible to promote efficient allocation of labor flows in a manner that maximizes formal sector employment levels and enhances factor productivity.

Effective and efficient job creation that would lead to longstanding improvements in incomes would necessarily depend on Liberia following an appropriate mix of policies conducive to diversified, competitive economic growth. This document describes the challenges and highlights the policy, regulatory and governance reforms conducive to private sector-led diversified competitive economic growth. It highlights reforms that it believes the government has the will and the capacity to carry out. Some, such as improved port procedures, may be opposed by powerful vested interests, but despite the expected opposition, their importance to economic growth warrants special programs to enhance their prospects for successful implementation.

Section 1 below identifies key development challenges for achieving diversified competitive economic growth. Section 2 identifies reforms (policy, regulatory and governance -- PRG --reforms) and non-policy actions required to address the challenges identified in the first section.

Section 3 contains an implementation plan for the top policy reforms. The reforms are grouped into five broad categories: (i) macroeconomic stability and management; (ii) trade policy and trade facilitation; (iii) financial inclusion and digital finance; (iv) transactions costs; and

(v) sector-specific development. Section 3 highlights a limited number of what the research team considers the most important reforms. These are principally policy reforms, but a few are non-policy actions. A Political Economy Analysis (PEA) is woven throughout this document, especially in the implementation plan contained in Section 3. Section 4 presents a Theory of

Change.

1. Key Development Challenges facing Liberia

The Effective States and Inclusive Development (ESID) framework14 models both political and economic power as driving the likelihood of achieving inclusive growth-enhancing reforms. In this section we examine each of the political and economic distributions of power and find that both create a challenging environment in which to undertake inclusive growth-enhancing reforms.

The “political settlement”15 in post-war Liberia is one in which a broad coalition of African ethnic groups have access to numerous appointed positions under a strong presidential system in which the president’s party is centered around their personality and electoral appeal. The president has the authority to appoint not only cabinet ministers, but also deputy and assistant ministers, director generals of institutes, mayors, district commissioners, and county superintendents. Once in these positions, individuals are expected to perform at least two functions: one, to govern and reform where necessary so as to deliver to voters through policy legitimacy; two, to reward one’s political “base” through jobs and financial opportunities.

Sometimes one may have access to personal rent-seeking opportunities as a result of a job, other times the job itself, and its salary, is the reward for having supported the party in power.

Democratic elections are funded with expensive campaigns, and supporters to the winning party expect to get rewarded.

President George Weah’s Congress for Democratic Change (CDC) party had formed a coalition with Senator (and ex-wife of former warlord Charles Taylor) Jewell Howard Taylor’s

National Patriotic Party (NPP) as well as with former speaker Alex Tyler’s newly-established

Liberian People Democratic Party (LPDP). The election victory depended on the additional support of Senator (and former warlord) Prince Johnson as well as a number of leaders or

“standard bearers” of the political parties that had not survived the first round. It also benefited heavily from an imploding campaign of the incumbent Unity Party’s candidate (and then Vice President) Joseph Boakai.16 This combination of supporters means that Liberia’s post-election political settlement will have debts to repay through government positions, appointments, and - possibly - rent-seeking opportunities. President Weah’s initial list of appointments revealed few names from the previous administration, indicating a change in the character of the political settlement.

14 Pritchett, L., K. Sen and E. Werker (eds.) Deals and Development: The Political Dynamics of Growth Episodes. Oxford

University Press. 2018.

15 Khan, M., Political settlements and the governance of growth-enhancing institutions. 2010. unpublished 16 “How and why George Weah won the Liberian presidency.” Dagbayonoh Kiah Nyanfore II, The Patriotic

Vanguard, Jan 8, 2018.

Meanwhile, the economic distribution of power, what the ESID framework refers to as the

“rent space,” has remained stubbornly constant throughout the various cycles of Liberia’s history.17 Consider an economy divided along two dimensions: on one dimension, whether the investor is serving the domestic market or using the country’s factors of production as inputs into exports; on the other dimension, whether firms succeed through discretionary government-enabled rents or by competing with one another through better products or services, lower costs, etc.

This results in a 2x2 matrix with four types of firms:

Regulatory rents Market Competition

Export-oriented

RENTIERS MAGICIANS

Domestic market

POWERBROKERS WORKHORSES

Source: Pritchett, Sen, and Werker (2018)18

Liberia’s rentiers, or exporting rent-intensive firms, are mostly its foreign mining and plantation concessionaires. Its powerbrokers, or domestically-focused rent-heavy firms, include parastatals or government concessionaires like the port or power provider; natural oligopolies like major road construction and cement companies; and politically-savvy oligopolies like rice and vehicle importers or other operators (such as hotel operators in urban settings) who succeed in getting some zone or product of exclusivity. Liberia’s workhorses, its domestically focused firms operating in competitive markets, constitute the majority of its companies (most of which are small), whether subsistence farmers, taxi drivers, or sachet water makers. Finally, Liberia’s magicians, exporters operating in competitive markets, are its coconut oil packagers, smallholder cocoa growers, and its garment manufacturer.

17 Werker and Pritchett, “Deals and Development in a Resource-Dependent, Fragile State,” in Deals and

Development (Pritchett, Sen, and Werker, eds.), Oxford University Press, 2018.

18 Lant Pritchett; Kunal Sen; Eric Werker; Lane Pritchett. “Deals and Development: An Introduction to the

Conceptual Framework,” in Deals and Development: The Political Dynamics of Growth Episodes. Oxford University

Press 2018: 1-38.

The stickiness of Liberia’s rent space has been the utilization of foreign-owned rentier firms to generate taxes and business opportunities that are then directed through patronage politics to powerbroker firms (or directly to government employees). This results in neglected workhorses, as the business environment is structured to enable powerbroker firms to thrive through restricted entry; from this perspective, Liberia’s 172nd place in the Doing Business rankings is thus not an accident, and reforms to improve the competitiveness of markets are likely to meet with some resistance.

Many of Liberia’s workhorses and potential workhorses opt either to remain in the informal sector or not to engage in business activity at all, rather than brave the hostile and high-cost formal business environment and face the same transaction costs, rent-seeking, taxes, and other costs that can only be sustained by larger and/or more politically connected firms. Of course, this environment hardly enables the emergence of magicians, who must not only compete against other firms, but indeed against ones in far more hospitable jurisdictions. Thus, when firms in the private sector lobby for government policy, the rentiers and powerbrokers dominate the conversation, as the workhorses have chosen silence and the magicians do not exist.

Therefore, according to the ESID framework, Liberia’s political settlement and rent space interact to form a challenging backdrop for reform efforts. The political settlement is sustained through rent allocation, and those rents are generated from natural resource concessions and an inefficient domestic market. Deals create some stability for rentier and powerbroker firms, but neither can grow the economy without a tailwind from rising commodity prices. Hence, growing the workhorse and magician quadrants could constitute a key element in a powerful pro-poor agenda on the part of the new government. According to Said (2017),19 one way to do that is to pursue opportunities in magician industries that can generate solid profits that will enable growth and, eventually, political voice. We will turn to that in the next section.

The remainder of this section describes the principal impediments to the generation of a diversified competitive system of production in Liberia. Nine overriding issues20 constitute the most important obstacles to broad-based and inclusive economic growth identified by the research team and head the list of areas most in need of reform. These areas and the aforementioned categories into which they fall are:

- Fiscal policies (Macroeconomic stability and management)

- Concessions (Macroeconomic stability and management)

- Ports (Trade policies and facilitation)

19 Jonathan Said, How Liberia Can Diversify its Economy for Inclusive Growth, 2017.

20 A ninth issue, pervasive rent-seeking, is also considered under transactions costs. Measures to address this issue are embedded in the approaches to several of the other issues.

- Financial inclusion (Financial inclusion and digital finance)

- Domestic transportation costs (Transactions costs)

- Weak enforcement of contracts and collections (Transactions costs)

- Pervasive rent-seeking (Transactions costs)

- Land rights (Sector-specific development – Agriculture)

- SEZs (Sector-specific development - Manufacturing)

Most of the nine overriding issues mentioned above do not fit exclusively into only one of the five categories. Similarly, many of the PRG reforms that are prescribed to remedy a specific issue will often have substantial salutary effects on, or be subject to constraints arising under, other categories and issues. For example, the PRG reforms prescribed to address the overriding issue of pervasive rent-seeking will also impact the overriding issue "ports" (due to the extensive rent-seeking at the ports) and the PRG reform of increasing investment in roads to reduce domestic transportation costs is also treated as a "fiscal" issue, owing to the substantial budgetary constraints on implementing that reform. In addition to the nine overriding issues, the team also lists other important issues whose resolution would contribute to greater inclusive economic growth.

A. Macroeconomic stability and management

Overriding Issue: Fiscal Policies

Budgeting and expenditure policies, rules, and practices require strengthening. Investments, (capital expenditures) need to be rationally prioritized and effectively integrated with operating expenditures within the context of well-formulated sectoral strategies and rudimentary performance- and program-based budgeting processes. Despite important progress realized by the Liberian Government in recent years, additional improvements in fiscal policy would open the way for diversified export-oriented competitive production.

The government created the Liberian Revenue Authority (LRA) in 2013 to strengthen domestic resource mobilization. The LRA is in the process of tightening compliance procedures. In addition, it instituted campaigns to enhance taxpayer awareness. The result has been improved mechanisms for collecting taxes. E–filing, which facilitates tax payments and reduces discretionary treatment of taxpayers by tax authorities, has begun on a small scale. The LRA also rolled out a taxpayer assistance unit to address complaints. However, the government still relies heavily on external grants, many of which are off-budget. 21

In 2017, the IMF projected grants at $149 million compared to tax revenues projected at $381 million. See the

2016 Article IV Consultation, op cit. The IMF does not provide a breakdown of budgeted and off-budget expenditures. It does note, however, that expenditures on the Mt. Coffee project (about $66 million in 2017)

Moreover, the government needs sound budgetary policies and procedures to allow Liberia to channel more of its own resources to the highest priority investments – that is, to investments that establish a firm basis for diversified competitive growth -- while it reduces its dependence on external funding. Excluding election costs, more than 54% of expenditures in 2017 went to employee compensation. Purchases of goods and services (some of which are then used to make in-kind payments to public employees) accounted for almost 25%, and capital expenditures were just under 10% of the total. 22

Government expenditures, including off-budget expenditures, were projected by the IMF to be equal to almost 37% of GDP in 2017.23 The Mt. Coffee project capital expenditures (the equivalent of 4.2% of projected GDP in 2016 and 3.0% in 2017, when the project was finished) accounted for 39% of capital expenditures in 2015 and 31% in 2016.

Liberia's central government expenditures are high relative to those of other ECOWAS countries. In 2015, the most recent year for which comparisons can be made, ECOWAS reported that total budgeted central government expenditures in Liberia equaled 28% of GDP.

The ECOWAS low was 4.8% (Nigeria) and the high 32.4% (Niger). And Liberia’s budgeted recurrent expenditures, which equaled 24.1% of GDP in 2015, were the highest in ECOWAS;

Nigeria had the lowest (3.9% of GDP). 24

The underlying basis for recent expenditures was the Agenda for Transformation (AFT), a five-year (2013-2017) economic and social development strategy, which aimed to advance the country toward National Vision 2030, which has as its goal making Liberia a middle-income country by 2030. Security and improved social services constitute important goals of the AFT and National Vision 2030. But attempts to combat the Ebola crisis, coupled with the expenditure mandates of the AFT, contributed to a substantial accumulation of new debt.25

Although still not at crisis level, public debt rose from 27% of GDP in 2014 to more than 41.3% at the end of November 2017.26 The IMF expressed concern about the rise in indebtedness, noting that its debt sustainability analysis showed that the country is vulnerable to external shocks and close to a high-risk category. The Fund also took note of the delicate balance faced were off-budget. The IMF notes that many donor expenditures, including important social safety net expenditures, are also off-budget.

IMF, Seventh and Eighth Reviews under the Extended Credit Facility Arrangement, and Request for Waiver of

Nonobservance of Performance Criteria. IMF Country Report 17/348. November 13, 2017.

Ibid.

24 See ECOWAS, Convergence Report, 2015. http://www.ecowas.int/wp-content/uploads/2017/11/ECOWAS-

Convergence-Report-2015.pdf 25 HIPC debt relief of approximately $4.6 billion in 2010 slashed Liberia's external indebtedness and consequently its debt to GDP ratio. This also permitted the country to again borrow to finance important investments.

26 USAID, Liberia Domestic Revenue Generation (LDRM) Report. The Pragma Corporation, December 2016 and CBL, Annual Report 2017.

by country authorities as they attempt to address urgent infrastructure needs while simultaneously limiting debt accumulation. Even though the concessional nature of new debt softens the burden of projected payment obligations, the IMF underscored the need to use caution in incurring new loans. The authorities reported to the IMF that some externally-financed projects were not high priority and would further contribute to the debt burden.27

Partially to slow down debt accumulation (most debt is earmarked to development spending) but mainly because of falling domestic revenue, the government tried to contain expenditures in

2017. It carried out a hiring freeze, excluding education and health, while it prioritized outlays in support of social expenditures, security and the elections. Debt incurred for road construction is subject to a cap of $100 million per year.

The Ministry of Finance and Development Planning (MFDP) is responsible for formulating fiscal policies. Policies have improved in recent years, but additional progress in improving tax and expenditure policies remains urgent. For example, in 2010 the government committed to transform the Goods and Services Tax (GST) into a Value Added Tax (VAT) by 2013 to implement its commitment to ECOWAS tax harmonization and to adhere to advice from the

IMF.28 However, the VAT has still not been rolled out. To improve the operating environment for MSMEs, the government will need to adopt tax policies that encourage domestic production and exports.

Streamlined, prioritized, well-focused expenditure policies, coupled with management improvements, especially in the electricity sector,29 are also important for focusing investments on the most urgent projects, including major investments in roads and electricity. The importance of investments in roads and electricity has been reiterated by most persons interviewed by the research team. The MCC compact also prioritizes these investments.30

However, the programming and budgeting of expenditures require substantial improvement.

The MFDP needs to effectively operationalize an integrated medium-term budget analysis framework and system. Although the MFDP has a sectoral strategy in the context of the AFT, longer-term expenditure planning is commonly overwhelmed by short-term spending pressures.

The MFDP received help in addressing these issues through the World Bank's Integrated Public

Financial Management Reform Project; but the project closed in September 2016. Likewise, the

27 IMF, 2016 Article IV Consultation, page 40.

28 TLC Africa, BIR reveals its Reform plans to stakeholders, http://www.tlcafrica.com/news_bir_reveals_reform_plans_9_10.htm 29 The Liberia Electricity Commission (LEC) needs better management. Power theft is widespread. Collections are inadequate. Competitive procurement needs to be strengthened, and PPP arrangements need to be considered for expansions of the grid. An effective regulatory framework has not yet been operationalized, and members of a regulatory body have not yet been approved by the legislature.

30 These are also the highest priorities in the MCC compact, 2015. See https://assets.mcc.gov/content/uploads/2017/05/compact-liberia.pdf

IMF has provided TA aimed at improving investment management, preparing comprehensive databases, and preparing feasibility studies for domestically-financed projects. However, budgeting and expenditure controls need to be much stronger.31 Most donor-supported programs are off-budget and the ensuing recurrent cost implications of these programs need careful integration into projected expenditures.32 As already mentioned, the new Finance

Minister took note of diverse donor programs that need to be much better coordinated with country priorities.

The MFDP needs better instruments to evaluate proposed expenditures. It also requires improved mechanisms to monitor and evaluate ongoing projects.